1.2.9 Taxes and subsidies

Question 1

Define taxation

Answer 1

A compulsory sum of money levied by the government on consumers or firms

Question 2

What is direct taxation?

Answer 2

Tax on:
- income (consumers)
- profit (business)
- wealth

Question 3

What is indirect taxation?

Answer 3

Taxes on goods and services:
- specific unit tax
- value added tax (VAT)
- tariffs (imports)
- alcohol/tobacco/fuel duty
- road tax

Question 4

What is a specific unit tax?

Answer 4

Set amount of tax on production per unit sold (affecting costs of production) - amount of tax paid is the same no matter the price of the good

Question 5

What is VAT?

Answer 5

Percentage tax added onto the initial price set on a good/service - amount of tax paid depends on the price of the good/service (e.g. 20% of the good/service)

Question 6

How does indirect taxation affect consumers?

Answer 6

Higher prices of goods/services are passed onto consumers as a result of higher costs of production for the firm (raises the market price)

Question 7

How does indirect taxation affect producers?

Answer 7

Producers would face increased costs of production, forcing them to increase the prices of their goods/services to protect profit margins, which could result in a decrease in the sales and therefore revenue/profit falls (depends on elasticity of demand of the good)

Question 8

How does indirect taxation affect the government?

Answer 8

The government receives tax revenue, resulting in an improved government budget, which could be used to provide more public sector goods/services

Question 9

What is a subsidy?

Answer 9

A grant given to firms/individuals/households by the government to incentivise increased production

Question 10

How do subsidies affect consumers?

Answer 10

Consumers can now face lower prices as a result of decreased costs of production for the firm

Question 11

How do subsidies affect producers?

Answer 11

Producers are now able to produce/supply more as costs of production fall (government helps pay for a certain amount of production) and lower their prices for consumers, which could result in an increase in sales and higher revenue/profit

Question 12

How do subsidies affect the government?

Answer 12

The government may experience a worsened government budget due to the government expenditure on subsidies, which could also prove as an opportunity cost in providing other public sector goods

Question 13

What is consumer burden?

Answer 13

The amount that consumers lose out by paying more for the good due to the tax

Question 14

What is producer burden?

Answer 14

The amount of revenue firms lose out by paying some of their revenue to the government because of the tax

Question 15

What is consumer benefit?

Answer 15

The amount that consumers gain by paying less for the good due to the subsidy

Question 16

What is producer benefit?

Answer 16

The extra revenue producers receive from the government due to the subsidy

Question 17

How does PED affect cons./prod. benefit?

Answer 17

Elastic demand:
- producers gain more than cons. (larger prod. benefit)
Inelastic demand:
- consumers gain more than prod. (larger cons. benefit)

Question 18

How PED affect cons./prod. burden?

Answer 18

Elastic demand:
- producers pay more than cons. (larger prod. burden)
Inelastic demand:
- consumers pay more than prod. (larger cons. burden)